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May 28 (The following statement was released by the rating agency)
Fitch Ratings has downgraded French building materials group Compagnie de Saint-Gobain's (Saint Gobain) Long-term Issuer Default Rating (IDR) and senior unsecured rating to 'BBB' from 'BBB+'. The Short-term IDR has been affirmed at 'F2'. The Outlook is Stable.
The downgrade reflects our view that Saint Gobain's business and financial profile is no longer commensurate with a 'BBB+' rating. Earnings have suffered from the challenging operating environment over the past two years as a result of a challenging operating environment, particularly in its European markets. Credit metrics will remain weaker than expected for a 'BBB+' rating, despite some improvements in earnings from the group's successful cost-cutting programme, and given a slow recovery in end-markets over the next two years.
KEY RATING DRIVERS
Limited Financial Flexibility
Despite a notable reduction in net debt in 2013, earnings (post restructuring and asbestos charges) have been in decline over the past two years, resulting in a financial profile commensurate with a 'BBB' rating. Although Fitch expects funds from operations (FFO)-adjusted net leverage to improve over the next two years, based on a modest improvement in internally generated cash flow, we expect it to remain above the 3.0x guideline for a 'BBB+' rating.
Recovery despite FX Headwinds
End-markets are showing slow signs of recovery, despite bad weather conditions, particularly in the US. The UK, Germany and the Nordics are recovering well and like-for-like group organic revenue growth was 6.8% in 1Q14, supported by strong growth in Interior Solutions, Building Distribution and Construction Products, although FX headwinds reduced actual growth to 2.6%.
The group's cash generation will be supported by around EUR800m in cost reductions and lower restructuring costs in 2014 and 2015. Its successful cost-cutting programme has yielded in excess of EUR1bn cumulative cost savings in 2013 on a 2011 cost base.
Fine Offsets VNA Sale
Disposal proceeds from the group's EUR1.3bn sale of the group's packaging unit, Verallia North America (VNA), mitigates the negative impact on credit metrics in 2014 of a large EU antitrust fine related to the group's flat glass business. Although there are limited synergies with the remainder of the group, packaging has historically had a stabilising effect on the group. Should Saint Gobain dispose of the rest of the packaging business, the rating guidelines could be tightened.
Working Capital and Capex Control
Management has decisively reduced capex to around 3.5% of sales from around 4.8% in 2011 in light of its earnings weakness over the past two years. We forecast moderate increases of capex over the next two years, based on around EUR1bn in maintenance and around EUR500m in expansion capex. In addition, it has also successfully reduced working capital over the last decade to around 30 days in 2013 from around 60 days in 2002.
Leading Market Positions
The ratings reflect Saint-Gobain's leading market positions, geographical diversification, focus on innovation, sound liquidity, and a balanced debt maturity profile. Fitch views Saint-Gobain's business profile as above-average compared with its peers, due to its lower exposure to new-build construction markets, as well as its product and end-market diversification.
Positive: Future developments that could lead to positive rating actions include
-Materially improved operating performance or lower-than-expected shareholder returns
-Free cash flow (FCF) margin above 2% (FYE13: 0.9%),
-Significant asset disposals reducing debt permanently,
-FFO adjusted net leverage below 3.0x on a sustained basis (FYE13: 3.9x when adjusting for cash needs for working capital swings, 3.6x on a reported cash basis).
Negative: Future developments that could lead to negative rating action include
-Deterioration of operating performance measures,
-Inability to maintain positive FCF margin,
-FFO adjusted net leverage above 3.5x on a sustained basis. The sale of the remaining business of Verallia would result in a further tightening of guidelines.
Liquidity is strong and amounts to EUR8.4bn, comprising EUR4.4bn of cash (EUR3.4bn when adjusting for cash needs to cover intra-year working capital swings) and EUR4bn of unused bank facilities. This is sufficient to cover EUR3.8bn of debt maturities and in excess of EUR3bn in capex over the next two years.